Look for ‘trouble’ in a fund’s portfolio
YOUR FUNDS
My wife walked into my office recently, a mutual fund annual report in her hand and a concerned look on her face.
The report was open to the list of holdings in Doubleline Total Return, which Susan holds in a retirement account. Normally she leaves the fund paperwork to me, so I wondered if she had knocked it off a table.
Whatever led her to look at the report, she was concerned with what she saw in the listing of the fund’s holdings.
Portfolios are tricky to understand and decipher, particularly with bond funds, where holdings typically are abbreviated to a word or two followed by numbers that are meaningful code only to someone in the know. Susan doesn’t follow business news that closely, but when she saw the fund holding paper created by Bear Stearns and Countrywide Financial, she knew the names were familiar for all the wrong reasons.
“Why does my bond fund have all these failed companies?” she asked me. “This is scary.”
She’s not alone in finding her fund’s portfolio scary. In fact, many investors who are only marginally interested in the paperwork see just enough in reports issued at this time of year to be frightened. Many compound the problem by reacting in fear.
In the case of Doubleline Total Return (DLTNX), the “bad names” were securities created by those defunct firms, collateralized mortgage obligations and other financial instruments still carrying the ruined name of a failed company, a name that has no bearing on the value of the holding.
“Whether it’s Bear Stearns or Countrywide or New Century, once the company has securitized the pool (of mortgages or other financial instruments) it doesn’t matter whether the company continues to exist or not,” explained Ron Redell, president of Doubleline. “The actual trust behind the bonds exists in perpetuity, but I can see why those names would scare someone who isn’t sure of what they’re looking at.”
It happens more often than investors might think. Clearly, with bonds, derivatives or more esoteric investments, even sophisticated investors might have trouble making heads or tails of the portfolio. In stock funds, it’s the bad names, or companies that look out of place, like the small- cap stock that shows up in a portfolio that’s supposed to be name -brand mega stocks.
No matter the circumstances, experts say that if something looks amiss, it’s time for the investor to ask questions, either of the adviser who sold you the fund or the fund company itself. What’s more, keep pushing for answers until you get them, or the lack of clarity changes how you feel about the company.
“If you paid someone good money to provide expertise, they ought to be willing to demonstrate it,” said David Snowball of Mutualfundobserver.com. “The key is listening for dodgy answers … responses designed to get you off the phone. Broad generalizations and the repeated use of the phrases ‘That’s a good question’ and ‘I'm glad you asked that’ are signals.”
That said, experts also cautioned against overreacting. You pay the managers for expertise, after all, so while you want their strategy to make sense to you, second-guessing their moves consistently would show a bad match between fund and shareholder.
Steve Savage, editor of the No-load Fund Analyst newsletter, noted that finding something unexpected in a portfolio is more likely to be a positive than a downer, a sign of “a highly opportunistic manager taking advantage of something extremely unpopular and undervalued.”
— Chuck Jaffe: cjaffe@ marketwatch.com.